Jacob's ladder

Internet fund manager climbs back from market's depths

By

PaulLin

NEW YORK (MarketWatch) -- It hasn't fully recovered from the dot-com meltdown, but the Jacob Internet Fund is clearly on the mend.

Last year, Jacob Internet
JAMFX, +0.46%
returned 10.8% even as the Nasdaq Composite finished the year flat. The year before, the fund rose 32.3%, roughly quadruple the Nasdaq's advance. A 101.3% gain in 2003 was more than twice the Nasdaq's rise.

Those gains contribute to the fund's three-year 45.2% annualized return through Thursday, better than any technology-sector funds screened by Morningstar. It's also a best-of-class investment based on five-year returns, with a 15.2% annualized gain.

Meanwhile, co-managers Ryan Jacob and Francis Alexander try to mitigate the risk of owning technology stocks, a group that many investors rank among the most volatile but potentially most profitable.

"We're adding and keeping a value component in the portfolio, increasing the turnover of holdings, and increasing diversification," Jacob said. "It has had an impact: a decrease in volatility." Click here to watch interview with Ryan Jacob.

Jacob knows how capricious the market can be. He launched this specialized fund at the end of 1999, when he was 30 years old -- at the peak of the mania for Internet stocks. Now, to ease the impact of the quick-shifting winds of technology stocks, he's almost doubled the number of holdings in his fund to about 50 stocks.

Even so, there are concentrations in certain sectors: Almost 40% of his holdings are in software companies, more than triple the S&P 500's weighting. Another 27% of the portfolio is in business services, while 12% in consumer-services firms. The fund keeps 5% of assets in cash.

And there's more evidence that Jacob still has the stomach for big bets. Shares of Chinese Internet companies are among his top holdings, making up 15% to 20% of the $99 million fund.

"As long as you're OK with the economic and political risks," he said, such companies "are generally very profitable, with high margins and low cost for doing business. China has the second-largest number of Internet users behind the U.S. It will overtake the U.S. in three or four years. It's just a question of when."

One recommendation: CDC Corp.
CHINA, +0.88%
a company that went public in 1999 as the online portal China.com. The stock is up 34% so far this year and is a 5% portfolio position.

CDC has done well with video games that target users' preference for fantasy games that often involve Chinese mythology or history, Jacob said. The company also has been buying up enterprise-software companies to diversify. That's added more than $200 million a year in revenue, Jacob noted. CDC should be trading at a higher valuation, he said, and speculated that splitting off its software business might achieve that.

On Thursday, New York-listed shares of CDC rose 8 cents to $4.37.

Jacob also likes value plays, something that didn't mesh with his early strategy. Now stocks he considers to be good values make up 40% of his portfolio, including webMethods Inc.
WEBM
which represents 4.3% of the fund.

The company is a "very attractively valued software company that focuses on integration," Jacob said. Shares trade at just over one times revenue, with operating margins above 10%. Companies like WebMethods, Jacob said, are "going to get acquired if they have unique technology," low costs and healthy margins.

Shares of webMethods lost 3 cents on Thursday to $7.70.

Jacob has added shares of Google Inc.
GOOG, +1.08%
recently, citing an attractive valuation. Late Thursday, Standard & Poor's announced that Google would be added to the S&P 500 Index
SPX, +0.29%
"Given the growth prospects and leadership position, these are very fair prices to pay," Jacob said.

Despite the progress the Jacob Internet Fund has made the past three years, skeptics remain, and they continue to point back to the meltdown of dot-com stocks and the fund's dismal performance during that bruising era.

"For the first three years of its existence, the fund lost an average of 57% each year," wrote Morningstar analyst Dan Lefkovitz in a June 2005 report. Had you invested $10,000 when the fund was started in late 1999, you'd have about $2,500 remaining today.

Still, if you'd invested that same $10,000 in Jacob's fund three years ago, near the market bottom, you'd have about $32,000 now, according to Lipper calculations. Just this week, Jacob accepted a Lipper award given to his fund for being the risk-adjusted leader over three years among its science-and-technology-sector peers.

"We're pleased with how our investment philosophy has evolved, and with the results from it," Jacob said. "I think we have a good recipe for success."

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